Euro Farce – the regulators race to the bottom.

The European ‘Plan’ to bail out Europe’s banks one more time, has now descended in to utter farce.

We began with estimates that the EFSF would need to be tripled or quadrupled in size. One to two trillion euros were being mentioned as what the new and improved super EFSF would need in order to comprehensively solve the debt problems of Greek, Italian and Spanish Banks that were bringing down their respective governments. This was to be Europe’s Big Bazooka to match America’s TARP bail out fund. The Americans were keen so was Mr Cameron the UK Prime Minister who said Europe must have one. Maybe he hoped they’d let him hold it.

Anyway, Germany and the rest of the world merely noted there wasn’t this much money around. And when they did the figures of what money there really might be, the bazooka was ridiculed as being likely to more of a pea-shooter than a bazooka. Analysts sensing there might be a teeny problem reconsidered and came up with a new figure and a new more modest plan.

The new more modest plan merely talks of ‘recapitalizing’ the banks. This is a real breakthrough for the banks, not because it has the slightest chance of really working but because they have found a way, finally, of advocating another bail out without having to use the dirty term. The new figure was magically much smaller – a mere €275 billion. A trillion only weeks ago considered essential, till it was pointed out it was also impossible, is now, by happy coincidence no longer needed.

However all is still not well in banker land. The banks aren’t keen on ‘recapitalization’ because although they would get billions in public money to bail them out it would be ‘given’ to them in the form of ‘investing’ in new shares. This would wipe out those who already had shares and dilute their share price. At the same time it would saddle the public with more shares in more insolvent banks which we would be assured would eventually bring a profit when we sold them but would then promptly loose value as exactly as happened to the shares we were forced to buy the last time they pulled this stupidity on us.

So what to do? The IMF went away and had a think. Their answer was to recommend a lower figure. According to the IMF Europe’s banks would not need either a trillion nor indeed €275 billion, but only €200 billion. Another €75 billion was magically saved.

The plan was now coming in to focus. The financial authorities and banks were going to run a sort of inverse auction where experts and regulators could bid for which plan should be adopted and the winner would be the one who bid the lowest.

Today the European Banking Authority (EBA) entered its bid. And it looks like the new front runner – coming in at only 80-100 billion. How do they do that I hear you ask. Easy, they’re the new European regulator for all things financial. The EBA was created in January of this year (2011). It is supposed to make sure Europe’s banks are properly regulated to the highest standard. Consequently it has the power to and its purpose as summarized in Wikipedia, is to make sure

… overrule national regulators if they fail to properly regulate their banks…. to prevent regulatory arbitrage and …prevent a race to the bottom because banks established in jurisdictions with less regulation will no longer be at a competitive advantage compared to ones based in jurisdictions with more regulations because all banks will have to comply with the higher pan European standard.

Their first act has therefore been to find that the banks don’t need any where near as much money as the banks, the analysts and even the IMF had thought.

It’s worth mentioning that the EBA isn;t alone in this. After the debacle of national regulators not regulating – see Greece – it was decided an complete overhaul was needed and power centralized. No one mentioned the fact that those national regulators – Greece in particular but others also – had actually been under close Central European ECB supervision during all the time it is now understood they were lying. So the central authorities were either complicit or incompetent.

So Europe did what it does so wellit decided to solve teh problem by giving everything a new name. So the Committee of European Banking Supervisors became the EBA. The European Insurance and Occupational Pensions Authority (EIOPA) replaced the Committee of European Insurance and Occupational Pensions Supervisors and the European Securities and Markets Authority (ESMA) replaced the Committee of European Securities Regulators. And as if this thorough house-cleaning weren’t sparkling enough they also created a brand new European Systemic Risk Board (ESRB) which reports to and is largely made up of people connected to the European Central Bank.

I hope that is all clear to you and is giving you the warm feeling of being in safe, expert hands.

The new drastically lower EBA bid for saving the banks comes courtesy of making sure that in their new ‘stress test’ – upon which their bid is based – they test for writing down sovereign debt but carefully exclude any calculation of a severe economic downturn. Ahhh – so clever! No one will suspect!

But that is not going to be th elast word bby any means. Already the FT reports today, in its article “EU bank recap could be only €80 billion”, ( I would link but there is a firewall) that,

Officials caution that most of the key assumptions in the EBA model – including the number of banks involved, the capital threshold and market to market model – are still the subject of debate between member states and Brussels.

Debate between member states? Means exactly the kind of regulatory arbitrage and race to the bottom the EBA was supposed to over-rule but apparently can’t or doesn’t want to. Which as the article concludes, means that,

While Germany has pushed for a lower capital threshold, other countries are suggesting amendments that would further reduce the overall capital shortfall, either by exempting certain banks, changing the form of capital that will count or introducing a more lenient means of valuing sovereign debt.

Expect the bidding to continue and the money the banks need to magically go down and down until it equals what Angela Merkel happens to have behind the cushions of her sofa.

86 Responses to Euro Farce – the regulators race to the bottom.

China recently took similar action. It is raising capital reserves to, a stunning by western standards, 25% and recapitalising the banks in a stock market underpinning excersise. The dilution of share value is deliberate. Now unless I’ve read things wrong this is pretty much the EU plan, but and I don’t use the caps lock often;

THEY ARE DOING THIS TO REDUCE BANK LENDING.

I can only assume that the EU is undergoing a collective mental breakdown.

In the meantime Nanning is hosting the ASEAN trade fair, the biggest opportunity in China to export there and to the booming ASEAN economies. So far I’ve met a couple of dutch guys.

All the changes to the various EU bodies are deckchair rearranging on the Titanic to try and re-create confidence that the boat wont sink. So obviously that wont work. what we need is a proper solution. Just seen thishttp://www.debtdeflation.com/blogs/2011/10/19/parallel-monetary-systems/
Facinating alternative interim solution that of course will get ignored by the mainstream but would actually help the people rather than the banks. Cant see how it would make matters any worse.

Here’s a thought – allow the banks to collapse. This will result in a significant deflationary force as the shadow money supply contracts. Use this deflationary force as an opportunity to simply print money and distribute it to all the individual citizens (not corporates) of the Eurozone till the deflation is avoided and we’re back at the inflation target i.e. a helicopter drop, not more QE. http://www.macroresilience.com/2011/10/05/a-simple-policy-program-for-macroeconomic-resilience/

Yes I agree this is the right way to go, but you do realize that the immediate pain would be extreme, very extreme. But just distributing money to private individuals would be wrong, the best thing would be massive infrastructure investment.

Why would a simple distribution be wrong? It has the benefit of being equitable – no one is privileged in such an exercise. And it can also be almost instantaneously executed in today’s age of electronic money. Which means that the immediate pain from bank failure is limited. The shoring up of household balance sheets also means that new entrants will be more willing to buy up the old banks’ assets.

Because it would just be wasted on imported consumer goods and do nothing to improve the long term productive capacity of the economy. It would like QE be just another sugar rush. I think that there should be planning for a massive wave of infrastructure investment. In Britain we need social housing, some new roads, high speed rail, green energy, high speed broadband and other things as well. It seems that this is what the Chinese are doing. Of course I would argue this because as a manual worker it would be in my interests and the interests of most of the folk I know. And that is a problem cos everyone has a position which benefits their own interest group even if they are not aware of it.

‘but just distributing money to private individuals would be wrong’.
Why? Just incentivising huge engineering/corp. firms to hire whomsoever they decide is part of the problem. These firms, through their H.R. departments, have a global Western eugenics agenda. And the very poor and marginalised do become generationally marginalised. It is deliberate.
It seems to me that part of the reason for this is to keep large proportions of the population in the ‘tenant’ and ‘rent’ sectors.
If these people apply for a bank mortgage, no cognizance is taken of the personal parts of rent they have paid.
There should be a way to By-Pass Banks completely, by a Direct Seller to Buyer Scheme, and to enable and allow ‘unemployed’ to buy some of the private (investor) housing, (which, in reality, is what these people are now are used for).

The notion of banks being regulated like public utilities is reasonable, although it does assume that escalating debt is a good thing. I really don’t trust the state to manage credit creation.

Liquidation of the banks is the best way to go. A good gardener spends alot of time pruning.

Pouring money directly into people’s pockets is pure inflation fantasy. Please don’t mention it again! Demanding free stuff without realising that you will eventually pay over the odds is as foolish as as buying on credit when your savings would cover the bill immediately.

The mistake you’re making here is you seem to think that the people that are in a position to make these systemic changes could possibly have any other motivation in mind other than the preservation of the status quo, and the fleecing of taxpayers for the benefit of the financial elite. Well my friend, they don’t. This financial “crisis” is an arranged, methodical extraction of wealth from the many to the few. Quite deliberate, and very effective.

Some interesting points above. I agree with the need for infrastructure investment. In my view this should be largerly for green purposes to reduce our oil dependence. However, as steve keen points out, we need to reduce the private debt levels, because it is that which is impacting on demand, and the drop in demand is what is impacting on gdp and encouraging the BOE to print money, which of course reduces disposible income further.
In, addition we need to get rid of fractional reserve banking and debt based money creation alone the lines of Positive Money, to stop the exponential money growth problem.
I agree that giving people money simple to buy imported goods will only be a temp solution. The money must be used for private debt destruction. This of course would shrink the debt based money supply, which is why you need positive money proposals to be introduced at the same time.

Good to see you here. I’ve previoulsy linked your blog piece elsewhere here.

I think there’s an inportant aspect to be considered in the comments just here. It’s a question of ‘emphasis’ concerning the actual problem being addressed. Roughly, there’s the shorter term issue of the Euro (but problems elsewhere too) debt/bank/public solvency crisis, wrapped up, as it is, in a badly flawed Eurozone structure. And then there’s the issue of the longer term structure & size of the financial sector plus the impending energy supply/cost (& climate change) issue.

It seems to me that commenters are placing different emphasis on these issues in considering solutions that the whole timescale.

I think some combination of Job Guarantee Scheme & (preferably) ‘green’ infrastructure spending, with at least some significant public debt cancelation (financed by currency issuers debt free) & private debt restructuring/default would be my offering. ie focus the ‘new’ money directly where it is most needed for short term demand stimulation & longer term public benefit.

Ashwin, I note your advocacy of letting banks fail, not only in the short term, but as a future policy. Hard not to agree with that, but as a sector ‘practitioner’, if I may refer to you as that, could you elaborate for us, here or at your blog, on the details of the consequences & practicalities of that? Particularly for the present Eurozone crisis, if possible? We’re all fed the line default would be ‘disaster’, it would be great to hear some detail on a contrary view?

MIke – Thanks. I don’t have anything against the long-term “structural” ideas. But they cannot be deployed quickly enough to counter a banking collapse.

In the current policy discussion, there is an implicit bias towards limiting the menu of policy options to those that protect the status quo. Of course if we allow the banks to fail and do nothing else, it will be a disaster. We will have a deflationary collapse a la the early 30s when bank failures led to a cumulative 25% deflation over 3 years in the United States. But we need to think of this deflation not as a threat but as an opportunity to institute a helicopter drop operation.

The problem in the Eurozone is that unlike the United States or the UK you cannot have such a joint fiscal+monetary operation under the existing structure where the CB monetises the fiscal authority’s transfers to citizens. But the current crisis won’t be solved anyway without some form of fiscal union whether explicit or implicit.

Printing money directly to the people already takes place – in the benefits system.

The assumption by the printers is that the money will be spent directly back into the economy. And it’s true. A Whitehouse spokesman recently mocked a Wall St Journal journalist for his failure to understand that increased unemployment benefits lead to increased consumer spending, which leads to an increase in business hiring and therefore a reduction in the unemployment rate. Simples!

Benefit recipients spend on necessities + alot of crap. They don’t pay down debt – they just declare bankruptcy while keeping their benefit payments.

Would it really be any different for real workers or people who are considered middle class? If they’re persuaded the state has their back on mortgages etc, they will leverage the printed money to take on more debt to buy assets – a different kind of crap, like overpriced residential property and stocks, but still crap.

Shtove, you ask to be convinced otherwise, but you yourself provide no evidence for your assertions and sweeping generalizations, eg:

“Benefit recipients spend on necessities + alot of crap. They don’t pay down debt – they just declare bankruptcy while keeping their benefit payments.”

How much money is left over for what you call “crap” once the necessities have been paid for out of benefits? How many benefit recipients declare bankruptcy? Where’s the evidence? Sensational gutter press articles about individual cases of benefits scroungers? I wouldn’t deny they exist, but what are the statistics?

I work in the debt industry and I do see this. To me crap is booze, tobacco, trainers, x-boxes, plasma TV.

You do have a good point about the surplus paid out on benefits – particularly to single parents. I spoke to a debt adviser recently who had come across net payments of £60k+ pa to one single mother – the equivalent of a six figure salary, which makes her one of the 1%! You can’t make it up.

This leaves the interesting question of why the state allows for such surpluses. The necessary benefits help to juice GDP, but the unnecessary ones … Maybe the lucky recipients buy gold with it. That would be funny.

“What the world needs now are leaders who look to the long-term future. The international financial institutions created after World War II were set up to ensure not only international monetary and financial stability, but also the conditions for sustained growth, employment generation, post-war reconstruction, and post-colonial development. Unfortunately, current policy is justified in terms of “pro-market” – effectively pro-cyclical – choices. But it is counter-cyclical efforts, institutions, and instruments that are sorely needed instead.

Global leadership today seems to be held hostage by financial interests and associated media, ideologists, and oligarchs whose political influence enables them to secure more rents and pay lower taxes in what must truly be the most vicious of circles. Indeed, the menace that now confronts us is not public debt or inflation, but a downward economic spiral that will be increasingly difficult to reverse.”http://goo.gl/XJ9Cp

It was soft money that drove the German recovery after WWII and allowed their ‘miracle’ economy to take off in the ensuing decades. Europeans should remember – and they should remember well – that it was deflationary policies or forced extraction that led to the second war; deflationary policies eerily similar to those that are being forced upon the periphery by Germany and France today. But it was inflationary policies and government intervention that ensured such a catastrophe would not take place again.

The money spent on rebuilding Germany was, in essence, given to them. Under the auspices of the now famous Marshall Plan the US gave Germany the money that she could then spend on the foundations of her new economy.

A few protested against this ‘irresponsible’ method. Some invidious individuals on the Allied side called for more policies like those enacted on Germany after the first war – and, more to the point, like those being enacted upon Greece and elsewhere today. But they were largely ignored as cranks. Then there were some who invoked the spectre of inflation once more. They, thankfully, were also ignored.

The Marshall Plan was an almost immediate success. In the three and a half years after its implementation the countries that received the aid saw their economies grow by a massive 25% of GNP. And another lesson was also learned from the experience that the Germans would do well to listen to today: much of the money circulated back to the US for the purchase of various goods. This reinforced the post-war boom in the US.

Today Germany essentially stands where the US stood over half a century ago. Now, as then, we can be sure that any expansionary fiscal policies implemented in the periphery would lead to higher German economic output rather than to inflation. But the inflation phobia continues nevertheless to loom large. Today, it threatens to destroy Europe.”

Nice post & link Charles, I really like Philip. He’s an excellent journalist & writer on economics, based in Dublin, no less. But he seems to get zero work in Irish MSM. Presumably he’s ‘verboten’ or ‘untermenschen’ in our glorious land of Orwell speak – shamrock brand, emphasis on ‘sham’, likely with an ‘e’ missing.

Some horrible statistics on outsourcing in the US, similar story in UK & Europe I would imagine.

Meanwhile, back in the USA:

“#1 The United Stateshas lost approximately 42,400 factories since 2001. About 75 percent of those factories employed over 500 people when they were still in operation.

#2 Dell Inc., one of Americas largest manufacturers of computers, has announced plans to dramatically expand its operations in China with an investment of over $100 billion over the next decade.

#3 Dell has announcedthat it will be closing its last large U.S. manufacturing facility in Winston-Salem , North Carolina in November. Approximately 900 jobs will be lost.

#4 In 2008, 1.2 billion cell phones were sold worldwide. So how many of them were manufactured inside the United States? Zero.

#5 According to a new studyconducted by the Economic Policy Institute, if the U.S. trade deficit with China continues to increase at its current rate, the U.S. economy will lose over half a million jobs this year alone.

#6 As of the end of July, the U.S. trade deficit with China had risen 18 percent compared to the same time period a year ago.

#7 The United Stateshas lost a total of about 5.5 million manufacturing jobs since October 2000.

#8 According to Tax Notes, between 1999 and 2008 employment at the foreign affiliates of U.S. parent companies increased an astounding 30 percent to 10.1 million. During that exact same time period, U.S. employment at American multinational corporations declined 8 percent to 21.1 million.

#10 Ford Motor Companyrecently announced the closure of a factory that produces the Ford Ranger in St. Paul, Minnesota. Approximately 750 good paying middle class jobs are going to be lost because making Ford Rangers in Minnesota does not fit in with Ford’s new “global” manufacturing strategy.

#11 As of the end of 2009, less than 12 million Americans worked in manufacturing. The last time less than 12 million Americans were employed in
manufacturing was in 1941.

#12 In the United States today, consumption accounts for 70 percent of GDP. Of this 70 percent, over half is spent on services.

#13 The United Stateshas lost a whopping 32 percent of its manufacturing jobs since the year 2000.

#14 In 2001, the United States ranked fourth in the world in per capita broadband Internet use. Today it ranks 15th.

#15 Manufacturing employmentin the U.S. computer industry is actually lower in 2010 than it was in 1975.

#16 Printed circuit boardsare used in tens of thousands of different products. Asia now produces 84 percent of them worldwide.

#17 The United Statesspends approximately $3.90 on Chinese goods for every $1 that the Chinese spend on goods from the United States.

#18 One prominent economistis projecting that the Chinese economy will be three times larger than the U.S. economy by the year 2040.

#19 The U.S. Census Bureausays that 43.6 million Americans are now living in poverty and
according to them that is the highest number of poor Americans in the 51 years that records have been kept.”
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” … contrary to what we are all taught in school, loans actually create deposits and not the other way around as the money multiplier would have us all believe. When a bank makes a loan it debits the Loans Receivable account on its books. To balance this transaction it will create a new liability in the name of the borrower. This loan will create a deposit somewhere else in the banking system (possibly at the same bank) which will cause this new bank to also account for its new liability (the deposit) and change in reserves at the Fed. Scott Fullwiler elaborates on this confusing point:

“The bank does not “use” cash to make a loan. The loan creates a deposit. If cash is withdrawn by the borrower this reduces its deposits. So, the cash is “used” in the process of settling a borrower’s withdrawal. This is the key point that confuses so many–banks don’t “use” cash or reserves to make loans since those are merely bookkeeping entries. They need cash or reserves to settle withdrawals that arise from creating the loan/deposit.”

A Fiat System Where Everyone Still Thinks We Have A Gold Standard Constraint

Why has this thinking never changed in the USA? Despite the dramatic changes in the monetary system after the Nixon shock neo-liberalism came to dominate economic theory in the 70′s and 80′s. After the economic successes of the Reagan and Clinton eras there was little doubt that such thinking was accurate. Of course, we all know what happened next and now many of these neo-liberal beliefs have been pointed to as causes of the recent credit crisis.

More important is the fact that investors and economists have simply ignored the fact that the USA underwent drastic changes in 1971 when Nixon closed the gold window. In essence, the system underwent this dramatic overhaul, but the thinking never changed all that much. Overnight, theories and thinking should have been rewritten, but never truly were. Whether one likes it or not, we are operating in a truly fiat world. Therefore, the thinking and theories that are derived from this era are largely defunct. MMT fills this void by describing how a state issued fiat monetary system operates.

This misconception exists even at the highest levels of government and has been propagated by many of the world’s most prominent economists. I believe most people in power do not understand exactly how our monetary system works due to this fundamental flaw in our educational system – in fact, I believe 99% of the lawyers in Congress know far less than anyone thinks in terms of economics. The same can be said for many of the officials in Fed and Treasury.

But people always ask: “how could these people not get it? How can the brightest minds and the leaders of our country not understand all of this?” Well, if we review the past actions of Alan Greenspan (who has admitted to using a “flawed” model) and the actions of Ben Bernanke leading up to and in response to the credit crisis we can see that they have substantially misinterpreted how a modern monetary system functions. In fact, in a 2008 Congressional hearing Alan Greenspan admitted that the ideological framework he had based his entire life’s work on, was “flawed”:

REP. HENRY WAXMAN: Do you feel that your ideology pushed you to make decisions that you wish you had not made?

ALAN GREENSPAN: Well, remember that what an ideology is, is a conceptual framework with the way people deal with reality. Everyone has one. You have to — to exist, you need an ideology. The question is whether it is accurate or not.

And what I’m saying to you is, yes, I found a flaw. I don’t know how significant or permanent it is, but I’ve been very distressed by that fact.

REP. HENRY WAXMAN: You found a flaw in the reality…

ALAN GREENSPAN: Flaw in the model that I perceived is the critical functioning structure that defines how the world works, so to speak.

REP. HENRY WAXMAN: In other words, you found that your view of the world, your ideology, was not right, it was not working?

ALAN GREENSPAN: That is — precisely. No, that’s precisely the reason I was shocked, because I had been going for 40 years or more with very considerable evidence that it was working exceptionally well.

So you can see that the man running monetary policy in the USA for 18 years was working under a “flawed” framework. If the Fed chief has a flawed understanding of our economic system then who can we really expect to understand all of this?
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See: http://goo.gl/k5PSq for some further explanation.

” Paradigm breakdown, meaning key elements of the current system are no longer viable, but that is a possibility that no one is prepared to face, since the old system seemed to work well for a protracted period. Thus the authorities reflexively put duct tape on the machinery rather than hazard a teardown…

The situation we are in now echoes that of the Great Depression. Although scholars still debate its causes eighty years later, a persuasive view comes from MIT economics professor Peter Temin. Temin, in his Lessons from the Great Depression, first sets forth the prevailing explanations and explains why each falls short. He argues that the culprit was the impact of World War I on the gold standard.

Recall that starting roughly in the 1870s, major European economies increasingly adopted the gold standard, and a long period of prosperity resulted.74 The regime was suspended in the UK and the major European powers during the war. Afterward, they moved to restore it, sometimes at considerable cost (England, for instance, suffered a nasty downturn in the early 1920s). But the after effects of the war meant the Edwardian period framework was unworkable. The deflationary forces they set in motion could have been countered by countercyclical measures after the Great Crash. But that was impossible with the gold standard. Indeed, as Temin notes, “Holding the industrial economies to the goldstandard last was about the worst thing that could have been done.”

Now readers may have trouble with that comparison, particularly since the conventional wisdom is that our policy responses have been so much better than those of the early 1930s. But the key point here is that the institutional framework locked the major actors into a particular set of responses. They were not able to see other paths out because they conflicted with an architecture and a set of beliefs that had comported themselves well for a very long time. It’s hard to think outside a system you grew up with. And remember, the gold standard did not break down overnight; the process took more than a decade.

A succinct primer on national income/sectoral balances as a rebuttal of ‘expansionary austerity’ from Bill Mitchell (who must have more than 24 hours in his day!):

—————————————————————–

The relationship between between aggregate spending and income is given by this expression:

(1) Y = C + I + G + (X – M)

where Y is GDP (income), C is consumption spending, I is investment spending, G is government spending, X is exports and M is imports (so X – M = net exports).

So this provides an expression for the sources of national income. Spending equals income – by definition.

Total income is used by households in the following ways:

(2) Y = C + S + T

where S is total saving and T is total taxation (the other variables are as previously defined).

Bringing the sources and uses of national income together we would write:

(3) C + S + T = Y = C + I + G + (X – M)

And noting that C is common to both sides this simplifies to:

(4) S + T = I + G + (X – M)

And if we re-arrange this term to derive the sectoral balances accounting relations for the three aggregate sectors: private domestic; public and external we get:

(S – I) = (G – T) + (X – M)

The sectoral balances equation says that total private savings (S) minus private investment (I) has to equal the public deficit (spending, G minus taxes, T) plus net exports (exports (X) minus imports (M)), where net exports represent the net savings of non-residents. Here net exports is equivalent to the current account (and thus includes the net income flows each period).

To put framework into use, we note that Modern Monetary Theory (MMT) teaches us that for any level of aggregate demand and national output there are several incontrovertible facts that arise from the national accounting systems we use.

2. Spending equals income and is the sum of net external spending (exports minus imports), private domestic spending (consumption plus investment) and government spending. A fall in overall spending results in a fall in income (output). A fall in one component of spending can be offset by a rise in another component to maintain existing income levels.

3. The non-government sector is sum of private domestic sector and the external sector.

4. If the external sector is in deficit, then a budget surplus or a balanced budget is always associated with a private domestic sector deficit.

5. If the budget deficit is less than the external deficit then private sector will be in deficit overall.

6. If the budget deficit equals the external deficit then the private domestic sector is in balance overall.

7. If the budget deficit is greater than the external deficit then the private domestic sector is in surplus overall.

8. If the private domestic sector is in surplus overall, it is spending less than its income and thus saving.

9. If the private domestic sector is in deficit overall, it is spending more than its income and building up debt, running down saving, or selling previously accumulated assets.

10. If there is an external deficit, the government and private domestic sectors together cannot reduce their respective debt levels.

…

These relationships depicted are not my opinion, subjective interpretation nor my conjecture. They are fixed by the way we define the national accounts and have to be true by definition. While they don’t indicate causality and you have to infer that from specific contextual analysis these relationships always hold for the different circumstances and should be ground into every economists mind who wants to comment or conjecture about macroeconomic matters.

Many of the comments you will read fall foul of these sectoral balances and promote policies and desired outcomes that cannot all be mutually consistent.

So after all the spending flows (and leakages) are exhausted in each period, if there is the coincidence of an external deficit (X – M < 0) and a public surplus (G – T < 0) then the particular national income flows will also force a private deficit (that is, the private domestic sector will be spending more than they earn).

While private spending can persist for a time under these conditions using the net savings of the external sector, the private sector becomes increasingly indebted in the process.

Further, if there is an external deficit then the government sector and the private domestic sector cannot simultaneously be running surpluses (that is, reducing their overall debt levels).

But to really use this framework you need to add theory and trace out how different behaviour will interact to generate national income changes which in turn are accounted for in each period.

Imagine if the private domestic sector desires to save 1 per cent of GDP overall (spend less than they earn) and sets about trying to achieve that goal via all the decentralised spending decisions of households and firms. Also assume for control purpose that the external sector is running a deficit equal to 2 per cent of GDP which is draining local demand relative to national income flows.

What will happen to national income as a result of this behaviour? The answer is it depends on what the government is doing (although it is more complex than that because of the feedback loops between the sectors which I will explain).

Imagine if the structural and cyclical budget outcome (that is, the sum of the discretionary policy choices of government and the impact of the business cycle on its spending and tax aggregates) produced a deficit of 3 per cent of GDP. This is State 7, and all the sectoral choices would have been compatible and national income would be stable and consistent with the desires of the private domestic sector, government and the external sector.

In that situation the desires of the private domestic sector which they would have put into place via their spending decisions would not undermine the growth in national income because the government was prepared to run a deficit consistent with supporting aggregate spending which filled the spending drain (gap) left by the private overall saving and the external sector.

What if the government sector at the time the private domestic sector set about saving overall had embarked on a fiscal austerity program and cut? Then the desires are incompatible at the current level of national income and it is the latter that would adjust via spending changes that would occur.

So as the government starts to cuts its spending while households are trying to cut their consumption spending (say) then aggregate demand will fall and output and national income will fall. The falling income would not only reduce the capacity of the private sector to save but would also push the budget balance towards (or into) deficit via the automatic stabilisers. It would also push the external surplus up as imports fell. Eventually the income adjustments would restore the balances but with a lower GDP overall.

What the sectoral balances might end up like is a matter of how the changing income erodes the capacity of the individual sectors to realise their desires.

This is a highly stylised example and you could tell a myriad of stories that would be different in description but none that could alter the basic point.

‘…The work, to be published in PLoS One, revealed a core of 1318 companies with interlocking ownerships (see image). Each of the 1318 had ties to two or more other companies, and on average they were connected to 20. What’s more, although they represented 20 per cent of global operating revenues, the 1318 appeared to collectively own through their shares the majority of the world’s large blue chip and manufacturing firms – the “real” economy – representing a further 60 per cent of global revenues.

When the team further untangled the web of ownership, it found much of it tracked back to a “super-entity” of 147 even more tightly knit companies – all of their ownership was held by other members of the super-entity – that controlled 40 per cent of the total wealth in the network. “In effect, less than 1 per cent of the companies were able to control 40 per cent of the entire network,” says Glattfelder. Most were financial institutions. The top 20 included Barclays Bank, JPMorgan Chase & Co, and The Goldman Sachs Group.

John Driffill of the University of London, a macroeconomics expert, says the value of the analysis is not just to see if a small number of people controls the global economy, but rather its insights into economic stability.

Concentration of power is not good or bad in itself, says the Zurich team, but the core’s tight interconnections could be. As the world learned in 2008, such networks are unstable. “If one [company] suffers distress,” says Glattfelder, “this propagates.”

“It’s disconcerting to see how connected things really are,” agrees George Sugihara of the Scripps Institution of Oceanography in La Jolla, California, a complex systems expert who has advised Deutsche Bank…..’

Last Sunday I listened to Radio 4′s Broadcasting House. I was quite surprised to hear them cover the London “Occupy” protests. There was a debate between a young chap from the Occupy movement and Tim Congdon. In this discussion Tim Congdon basically patronised and dismissed the young chap saying that “we’ve had a market economy for centuries now, and you get a few ups and downs”. Basically the message was “Suck it up”.

This morning I made a formal complaint to the BBC, and I ask that as many people out there listen to the programme on iPlayer (discussion is at about minutes 10:00 to 15:00, I think), and help to support the cause by making similar complaints:

—————————

Dear Sir/Madam

I was quite surprised to hear Tim Congdon refer to the current financial crisis as a fairly typical business cycle phenomena for which the UK is likely to just “bounce back”. This opinion was couched as a fact from a seemingly knowledgeable person (Mr Congdon was introduced as a “Professor”). It was used to undermine the justifcations for the recent London “Occupy” protests. The BBC interviewer did not challenge Mr Congdon on this matter, despite a mountain of evidence to the contrary. Nor was it made clear that Mr Congdon does not actually have a current academic affiliation, and his title is merely an “Honorary Professorship”.

This stance from Mr Congdon was repeatedly used to undermine the views and credibility of a young layperson who was trying to provide explanations of how serious our current economic situation is.

The views of this contributor are in fact supported by the Chancellor and Prime Minister (who repeatedly state that we are in a grave crisis), the Governor of the Bank of England (who states that we are in as worse a crisis as the 1930s), the IMF, the BIS and numerous other professional bodies and commentators.

Therefore I wish to complain that a false impression of Mr Congdon’s professional qualifications was permitted to take place, and that his views were not sufficiently countered by either the appropriate selection of panellists to discuss the matter or a well informed and capable host that could point out his fallacious comments.

This programme therefore appeared to convey a highly biased dismissal of the legitimacy of the “Occupy” protest movement.

Personally, I wouldn’t see it as a top-down conspiracy led by the BBC executive board, but rather a case of programme researchers being told to come up with guests representing diametrically opposed views on the issue in hand (for supposed “balance” and dramatic conflict), going through their lists of people in each camp and seeing who’s available. And then not bothering to supply presenters with sufficient background information to make it clear where said guests are coming from.

Congdon (http://en.wikipedia.org/wiki/Tim_Congdon ) is a monetarist who unsuccessfully stood for the UKIP leadership last year. I heard part of the programme, but I don’t think they mentioned that. I’ve complained to the BBC before about them bringing in people without making clear where they’re coming from. They all turned out to be from the Right.

Telegraph:

“Yields on 10-year Italian bonds surged past the danger line 6pc for the first time since August as markets reacted to near breakdown of the EU decision-making machinery.

The spreads over German Bunds reached 396 basis points, just shy of the level where LCH Clearnet raises margin requirements – a key trigger for the crises in Greece, Portugal and Ireland.”

I had bit of a shock when I realised that he was in fact NOT currently a sitting Professor, so has no “chair” anywhere as such, and that anyway this was just a titular “honorary Professor”, so not an indication of a formal qualification.

That is highly misleading and provides him with false “credibility”!

Even Kermit the Frog has an honorary degree, but I doubt we should be listening to his prognosis of the UK economy:

I made two complaints on the unadvertised partiality of participants, but received no reply other than acknowledgements. Perhaps I didn’t use the right channel to make them “official” complaints that need to be looked into. I have made other, unrelated complaints before, and received an answer, but never an acknowledgement that they were in the wrong.

I can’t remember the name of the R4 programme that deals with listeners’ responses, but it might be worth trying them – especially if you can come up with more than one example (mine are old now, and I can’t remember the details, except one was to do with global warming – for latest report on which see here: http://www.bbc.co.uk/news/science-environment-15373071 ).

Newsnight, BBC Two, tx: 19/10/11: We received 42 contacts (33 complaints and 9 comments) from viewers who felt the interview with Anastasia Crickley was too robust, with some viewers accusing Jeremy Paxman of ‘rudeness’. Verbatim example: “Mr Paxman, in the interview with the UN spokeswoman, Ms Crickley, revealed an appalling level of rudeness, discourtesy and impatience towards Ms Crickley. He interrupted her responses on at least two occasions, even shouted at her in his insistent repetition of the same question to which she was in the process of responding, and in addition turned to the MP present in the studio to invite him by gesture to talk over Ms Crickley who was speaking by video link. This contrasted with his manner towards the MP present, to whom he adopted a far more reasonable tone. One was left with the impression that Paxman seems to be compliant towards English male MPs and likes shouting at Irish women.”

The real problem is the dollar fiat empire getting stressed beyond belief, but for the moment, Europe is the epicentre of the immediate crisis:

FACT #1: Europe’s entire banking system is leveraged at 25 to 1.

FACT #2: European Financial Corporations are collectively sitting on debt equal to 148% of TOTAL EU GDP.

FACT #3: European banks need to roll over between 15% and 50% of their total debt by the end of 2012.

FACT #4: In order to meet current unfunded liabilities (pensions, healthcare, etc) without defaulting or cutting benefits, the average EU nation would need to have OVER 400% of its current GDP sitting in a bank account collecting interest.

Funny you should say that. i was offered( i.e. to buy) a pair of shotguns- legitimate ones, for grouse etc but as i was offered them the thought that went through my mind was maybe I should get them and stick them under a handy hatch in the floor along with a few dozen cartridges. I rejected the thought because I thought it would be pointless as it would not be effective for anything except protection against the innocent like locks only protect us from honest people. Any real villains will be armed with much more powerful equipment.
i will use the money to stock up on tea and coffee. Disarming aggression is probably
much more effective.

In the States there are very large numbers of people who are armed to the teeth in anticipation of a major social collapse. I know of one person, (and have seen with my own eyes), who has stuff like anti tank weapons and heavy machine guns. No idea how they obtain this kind of material. That person is slightly unusual( rich for one thing) but owning a family set of assault rifles is not very unusual among the sober and respectable of that country. I know of one perfectly nice dad who has trained his teenage daughter to dismantle and re-assemble, and use an AK47.

” Bank profits are highest since before the recession…
…even as the banks plan thousands of layoffs
Banks make nearly one-third of total corporate profits
Since 2008, the biggest banks have gotten bigger
The four biggest banks issue 50 percent of mortgages and 66 percent of credit cards
The 10 biggest banks hold 60 percent of bank assets
The six biggest banks hold assets equal to 63 percent of the country’s GDP
The five biggest banks hold 95 percent of derivatives
Banks cost households nearly $20 trillion in wealth
Big banks don’t lend to small businesses
Big banks paid 5,000 bonuses of at least $1 million in 2008

When banks have this much power, and consecutive quarters of huge trading profits, it is a sign that ‘Too Big To Fail’ needs to be broken apart as they represent too much monopoly, as well as a major systemic risk, over markets and the entire financial system.”

ZH comments: “the core problem at the very heart of European instability, is nothing more than, you guessed it, excess debt, €1.7 trillion worth of it to be precise: this is how much debt has to be rolled over the next 3 years, and also explains the magical €2 trillion number needed for the EFSF as only something that big can i) backstop the debt roll and ii) insure the needed bank recap, which in reality needs more like €400 billion [...].”

Hi, does anyone know if the 99 declaration is for real or is it just a splinter group. I got asked to join the working group, and I did but I said it wasn’t really appropriate cos I’m an Englishman in Norway. But I wanted to know what was happening and it seemed like the best way. Now I hear that it doesn’t have the support of the protesters and that it might be a one man band(that I can’t believe cos the amount of work is incredible, I’ve been involved in such things before) does anyone have any info?

You do have to wonder how bad things have to get before those defending this system finally throw up their hands and admit it’s a complete farce.

The problems are perpetuated not by a tiny banking elite, who are doing very nicely out of this corrupt form of ‘capitalism’, but by its apologists and defenders in the media, from the economic editors who have invested their reputations in the scam, to commentators like Charles Moore and Richard Littlejohn, who seem to have belatedly caught on to the fact that gross inequality isn’t in society’s long-term interest, to the readers of the Mail, Express, Telegraph and Times who litter the comments sections with justifications of the larceny – despite the fact that they will be next in line when the vanguard of the dispossessed (the unemployed, the disabled, pensioners) have been stripped to the bone. To date, the underclass have provided a protective buffer, taking the brunt of the cuts. Next in line will be teachers and nurses, then the professional classes, and their children’s futures.

As the Greeks are finding, it’s not the kleptocrats who are suffering, it’s the teacher whose salary is being cut from €1,200 a month to €900 and is losing her flat. It’s the patient at the hospital who is told that their drugs are no longer being supplied because the drug companies haven’t been paid.

And yet, a large proportion of the population still seem to believe we’re just in a temporary blip before we resume business as usual, and defend a system inimical to their own interests. The neatest trick of the ‘neoliberals’ has been to convince enough of us that free markets work to benefit a majority, rather than, without government intervention, lead inexorably to the polarization of wealth and political power.

This form of corporate kleptocracy is insatiable:“Listen, and understand. That terminator is out there. It can’t be bargained with. It can’t be reasoned with. It doesn’t feel pity, or remorse, or fear. And it absolutely will not stop … “

“Europe’s leaders are threatening to trigger a formal default on Greek debt and risk a “credit event” if banks refuse to accept losses of up to €140bn (£120bn) on their holdings.

Hardline eurozone members, backed by the International Monetary Fund (IMF), delivered the ultimatum this weekend after an official report found that in a worst-case scenario Greece could need a second bail-out of €450bn – twice the current package and more than the entire €440bn in the eurozone’s rescue fund.

Vittorio Grilli, a senior EU official, travelled to Rome yesterday to present the “take it or leave it” deal to the Institute of International Finance, which is leading the negotiations for the banks. “The only voluntary element for the banks now is to take a 50pc haircut or face a credit event, a default,” said an EU diplomat.”

Thanks Golem
It is all extraordinary to watch this …its like a huge liner with immense momentum ploughing into a crowded pier… its quite slow but it keeps happening…

“In a flexible exchange rate regime, a country can freeze or even cut government spending and still be able to grow the economy if the exchange rate is devalued. The economy is able to compensate for the contractionary economic effects of fiscal austerity via expansionary economic effects of an increase in net exports. This is how Asian economies were able to work their way out of their crisis in the late 1990s.

In a fixed exchange rate regime, trying to balance the budget deficit via spending cuts or tax increases is like a dog chasing its tail. You can never cut spending or raise taxes enough to balance the budget, because resulting contraction in private sector economic activity will reduce government tax revenue by a roughly proportional amount.”

This much does not seem hard to understand. Basically with a fixed exchange rate and the impossibility of devaluing the PIIGS cannot escape.

Even with the freedom to have a currency devaluation as here in the UK, its bad enough when so much of the economy is still skewed towards the financial sector and so much of the rest is based on its financial manipulations via tax avoidance and so on, but in Euroland the only escape option is ruled out. It was designed out of the system. The Euro technocrats and bankers have constructed in their blind confidence a perfect European Economic Doomsday Machine. Totally assured mutual destruction. The Liner ploughs on…

“But you might think also about what is not in the NYT graphic because we lack reliable information. For example, what is the exposure of US financial institutions to European debt, directly or indirectly, through derivatives transactions of any kind?

The opaqueness of derivative markets means that most investors can only guess at what could happen. Most of the relevant regulators and supervisors with whom I have talked seem also to be largely in the dark – remember the experience of AIG in 2008.

Cross-border bank exposures through loans and other holdings are publicly disclosed – data from the Bank for International Settlements are represented by the arrows in the NYT graphic. These data are surely not perfect, but they do convey the main points and they tell you where to focus attention.

“The IMF is thought to be calling for a 60pc haircut while Europe’s leaders are demanding at least 50pc, but bankers have warned that anything over 40pc risks setting off a ‘credit event’, triggering credit default swaps.”

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